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How to Lose It All

We've all made investing mistakes. And we'll make more. Either we'll overestimate growth, or we'll underestimate cash flows, or we'll fail to recognize poor management when we see it. None of these flubs can ever be completely averted. To err is indeed human.

The wrong mistakesBut there is a difference between mistakes based on a sound intellectual framework and those based on a wing and a prayer. During the bubble, too many of us did the latter and lost. A lot.

We had the wrong approach. And in "we" I'm including yours truly, as well as the head honchos here at Fool.com, David and Tom Gardner. The brothers Fool have been refreshingly honest about their mistakes in both investing and nurturing the business of Fooldom. A good number of them were outlined in the 2002 book The Motley Fool's What to Do With Your Money Now. Four, however, really struck me. In their words:

We were impatient.

We didn't play our game.

We didn't respect profitability ... enough.

We pursued growth at any cost.

You bought what?!Sounds devastating, doesn't it? Yeah, it does. And it would make for a severe indictment of the Fool if most of us didn't do exactly the same thing. Still, mistakes are mistakes, and here's what David and Tom had to say about each in the book:

On impatience: "With so many indiscriminate buyers simply wanting in [on Palm's IPO in March 2000], perhaps it's not surprising that just a month later the Nasdaq Composite began what would represent a greater than 60% decline over the succeeding 18 months. ... Now, who do you think was doing this indiscriminate buying? The answer is that most of us were. While we two brothers didn't ever own any Palm, David paid a pretty penny once for @Home (later "Excite@Home," David recalls with a shudder) and Tom held his Yahoo! up to $237 and back down again (much further down than up)."

My response: I sympathize. Heck, I bought Sun Microsystems on hype, held it for a 20-bagger, and then, of course, let it get away.

On playing their game: "Yet even as we were trying to teach this lesson (to a biker who gave away home-field advantage by forgoing Harley-Davidson (NYSE: HDI) to invest in an unknown restaurant stock), there we were two years ago with one of our real-money portfolios investing in JDS Uniphase. Of all the technology companies, one that was building optical networks using the speed of light to transfer data seemed like the best future opportunity one could find. ... [Yet] even as we're teaching the Harley lesson we must admit that if you dropped a heap of JDS Uniphase products in our lap -- sans brand names -- we would have real difficulty telling you what they were."

My response: I'd had a brokerage account for all of three months when we first invested in JPMorgan (NYSE: JPM) , and I was at a disadvantage because I was out of my element. It was the portfolio equivalent of playing at night, on the road, while starting a 40-year-old pitcher with a dead arm. No wonder our returns suffered.

On respecting profitability: "Remember K-Tel? We hope not. But if you do, you'll first remember K-Tel albums from the 1970s. You saw them directly marketed on TV ads for K-Tel's Greatest Hits albums and whatnot. And then out of the blue K-Tel announced in 1998, 'We're an Internet retailer also.' And this was a $6 stock that went to $44 over the next two weeks. And then over the next three years it went from $67 to less than a dollar. So they created a lot of brief excitement by saying, 'Me too -- we're associated with this great boom also.' But they weren't profitable and there was no cash for them to expand. So we go back to Standard Oil and Rockefeller and say he was right: The competitive battles in the business world are won by companies who are able to store up cash and continue to operate profitably over time."

On pursuing growth at any cost: "It became clear over the succeeding 1,000-, 2,000-, 3,000-point drop in the value of the Nasdaq that learning how to value a business is important. Eschewing valuation by knocking it off your list and saying, 'This is a great company like AOL and General Electric (NYSE: GE) !' -- pursuing growth at any cost -- is not a dependable way to beat the stock market averages over time."

My response (and a sarcasm alert): Wow, that's great. Where were you in 2000 when I was buying into American Power Conversion (Nasdaq: APCC) , just ahead of a tailspin it still hasn't completely pulled out of? Thanks, guys. Thanks a lot.

The courage to do oppositeNow, what do you think would happen if you reversed each of these mistakes? Wouldn't it start to look like a smart investing philosophy? Have a look:

I will be patient.

I will buy stock only in businesses I know or would be interested to learn about.

I will respect profitability, especially when investing in firms that have yet to achieve it.

I will endeavor to buy growth cheaply.

Embrace valueIf you're already following these principles, congratulations! Not only are you a Fool, but you're also probably a very successful value investor. But what if you've got no idea what I'm talking about? What if all you know is that you'd like to amp up your returns, and that this approach seems to fit with your idea of money management? Glad you asked.

Philip Durell, chief advisor for Motley Fool Inside Value, began at the Fool as a valued contributor to our Foolish Collective discussion board covering analysis and valuation. He's internalized all the lessons we've laid bare here, combined it with 30 years of business experience, and molded it all into a very successful stock-picking strategy. Indeed, his selections for Inside Value have bested the market by more than four percentage points as I write. Take a free trial today and you'll get access to more than a dozen simple-to-use investing lessons and all 30 of Philip's buy reports. It's risk-free, so all you have to lose is the prospect of better returns.

Look, mistakes happen. I've made them, David and Tom have made them, and you have, too. But we can learn from our gaffes and demand better of our portfolios and ourselves. It all starts with being smarter about buying growth and spotting stocks on sale. In fact, even if that's all we do, we should never again have to worry about losing it all when investing for market-beating returns. That's about as good as it gets when it comes to stocks.

This article was originally published on Sept. 23, 2005. It has been updated.

Fool contributorTim Beyersrespects all kinds of growth, but his children's growth most of all. Tim didn't own shares in any of the companies mentioned in this story at the time of publication. You can find out what is in his portfolio by checking Tim's Fool profile, which ishere. JPMorgan is a Motley Fool Income Investor recommendation. Palm is a Motley Fool Stock Advisor recommendation. The Motley Fool has an ironcladdisclosure policy.

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Tim Beyers first began writing for the Fool in 2003. Today, he's an analyst for Motley Fool Rule Breakers and Motley Fool Supernova. At Fool.com, he covers disruptive ideas in technology and entertainment, though you'll most often find him writing and talking about the business of comics. Find him online at timbeyers.me or send email to tbeyers@fool.com. For more insights, follow Tim on Google+ and Twitter.